I am a registered investment advisor based in Houston Texas, specializing in equity options. My focus is naked put selling and spread trading. I have past experience in commercial banking, real estate, and oil and gas, as well as various types of other derivative investments. My world was turned upside down by the financial crisis of 2008-9. Many of my views are slanted to expose and correct the corruptions existing in the world’s financial markets. I have a BS in economics from UC Berkeley and an MBA in finance from the U of Pennsylvania Wharton School. Reach me at rbf10@comcast.net

Aubrey McClendon's $2 Billion Attempted IPO; Terrible For Investors, But Good For Him As Usual

“History may not repeat itself but it sure does rhyme.”* Since his $35 million termination ceremony in April of 2013 as CEO of Chesapeake EnergyChesapeake Energy Corp (CHK) Aubrey McClendon has reinvented himself as a private equity mogul. His most recent dip into the capital markets, the so called American Energy Capital Partners LP (AECP), audaciously asks investors for $2 billion for investment in yet to be identified mineral properties. As the preliminary prospectus clearly states this deal is a “blind pool”, suggesting to me the credulous will be turning over money to a person who has proven time and again he cannot be depended on to resolve any ambiguity in favor of investors.

Some History

As CEO of Chesapeake Energy (CHK) he siphoned off hundreds of millions in salaries and bonuses with rubber stamp approval from his sycophantic board of directors whom he annually remunerated as much as $600,000 or more. Statistically, the stripes on this tiger are unlikely to ever change. There is no word that some miraculous incandescence has transpired.

His infamous Founders Well Participation Program (FWPP), approved by this same lackey board, allowed Aubrey to a 2.5 percent participation in all the wells drilled by Chesapeake. What makes it so obscene is that it is all done with non-recourse borrowed money and the only collateral for debt repayment are the drilled wells themselves. Aubrey has no skin in the game. He reaps the benefits, which the 2012 Chesapeake Energy Corp 10Q values at around $900 million, and no risk or pain if the explorations are not as successful as anticipated.

Fees, Fees, and More Fees

American Energy Capital Partners LP, is laden with such a smorgasborg of fees that this offering document is barely more than a vignette of a feeding trough for all the little piggy’s on the sell side of this deal. If an investor can somehow overlook the egregious 11.65 percent front end load of selling commissions, dealer manager fees, and partnership organization expense, a short browse further inside reveals an annual 5 percent management fee. On the full $2 billion offering this amounts to $100 million annually. But it’s actually a whole lot worse than even this outrage. The document states that the management fee is paid on not only equity raised but also any debt incurred. The partnership is allowed to leverage up to 50 percent or an additional $1 billion in capital. So paying 5 percent on this brings the true annual management fee to $150 million or 7.5 percent of equity raised.

If this weren’t repulsive enough to your investing sensibilities consider the 2 percent “acquisition” fee on the contract amount that management receives each time a lease is acquired…..plus up to an additional one percent reimbursement for “expenses”. The bookend to this indignity is a 1 percent “disposition” fee compounded with an open ended expense reimbursement associated with selling any properties. But my favorite of all is the “financing coordination” fee. Remarkably these people expect remuneration of ¾ of 1 percent of the amount of debt secured and funded. On top of all this there are further monthly expense reimbursements including all overhead, like office rent, travel, secretarial, data processing, finance, and accounting. There is also monthly repayment of any expense incurred doing due diligence on any oil property that is identified but ultimately not acquired.

Finally, like any respectable partnership there is a 12.5% “incentive distribution” payable to the general partner and the management team upon partnership liquidation. The document infers that this 12.5 percent back in is basically after all expenses are paid. It makes no reference to partners getting their principal back first. If this is indeed the intent then the actual so named “incentive distribution” is actually much greater than the stated 1/8. For example if the partnership were sold for 50 percent greater than all costs and the 12.5 percent is taken on the original investment plus the 50 percent profit then 12.5 percent of 150 is 18.75 percent or 37.5 percent of the actual profit (18.75/50 = 37.5).

Weird Structure

This deal is a limited partnership which implies there is a general partner which is slated to be recently formed American Energy Capital Partners GP, LLC. that a Mr. Edward Michael Weil, Jr., is the Chief Executive Officer. Interestingly, Mr. Weil is in the real estate business and one of his companies, Realty Capital Securities is acting as the “Dealer-Manager” on this offering. Under the General Partner Aubrey’s is hired to be the manager and is entitled to 80 percent of the previously described management fees. The management company is named AECP Management LLC and its affiliate AECP Holdings. Strangely, in the first 70 pages of this preliminary prospectus Aubrey’s name is mentioned but one time.

It Would Be A Miracle

For this partnership to get funded and up and running would, in my opinion, be nothing short of miraculous. When all the fees and expenses are tallied it can easily amount to 11 or 12 percent annually. Given the acquisition and disposition arrangements there are ample incentives for the manager to trade or flip properties further raising costs for investors. Having a blind pool implies having to go out and bid on properties. The low hanging fruit in the shale business is all picked. Aubrey will, in my opinion, be forced to pay top dollar just to get in the game. I queried several oil industry insiders on this transaction. None wanted to comment on the record a couple because they thought Aubrey would be an ideal buyer for properties they may want to sell.

In fairness the entire offering document is filled with warnings of all kind: The general partner is owned by American Realty Capital, a property investment group with no background in oil and gas production: There are conflicts between investors and management which “could result in decisions that are not in your best interests”: this offering is a blind pool and no properties have been identified: the investors are “obligated to pay substantial fees to our general partner and the manager.”

One of the biggest conflicts is that a few months ago Aubrey formed American Energy Utica and raised $1.7 billion in a private equity offering from a select few highly sophisticated investors. John Raymond, (son of former Exxon (XOM) CEO Lee Raymond) invested 70 percent of the $1.35 billion in equity. His $6.7 billion private equity fund is called Energy and Minerals Group and I can guarantee that to invest nearly $1 billion in one deal, Mr. Raymond was very strict on what fees he would allow……my guess is they are an eighth or a tenth of what Aubrey is trying to gouge the retail investors for here. The other main equity investor is First Reserve Corporation another sophisticated player in the energy space. Blackrock (BLK) and Magnetar were the lead investors for the $450 million debt piece.

Dead on Arrival

As of now I do not think a final prospectus has been issued. They are offering units in very small $5,000 increments. For me, this deal is a rip-off and nothing more than a shoddy effort to take advantage of the gullible and unsophisticated. This deal is dead on arrival but if it does see the light of day stay clear. Mark my words you will lose your money.

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pigs get fat and hogs go to slaughter. He is actually one of the early fracking pioneers. So from a certain perspective he is very well respected in the industry. That said he stacked the board at Chesapeake who literally voted him hundreds of millions in salary and bonus. He finally got kicked out last April by Carl Icahn. There is litigation trying to claw-back some of the money as well as questions about the propriety of his Founders Well Participation Program. This particular deal will never get done, in my opinion. R

Oh yeah. “…a person who has proven time and again he cannot be depended on to resolve any ambiguity in favor of investors.” So what would of happened to my principal if I had invested in the original CHK “IPO”? I have no doubt you had only the best intentions when writing this article, though.